The bottom line is that GE shares could be worth $157.66 each, or at least 60% more than their Sept. 22 price of $98.54. This is based solely on the company’s own free cash flow projections.
This is quite a unique situation. General Electric decided to raise its own full-year free cash flow. Rarely have I seen that kind of free cash flow forecast for a public company.
Free Cash Flow Projections
Last quarter, even though GE had not produced any FCF, it projected $2.5 billion to $4.5 billion in FCF for the full year. But on July 27, the company raised its FCF projections to $3.5 billion to $5 billion.
This allows us to refine our valuation for the company even further. Another major point is that the CEO, Lawrence Culp, Jr., indicated that he thinks General Electric can make a high single-digit FCF margin over time. We can use that guidance for our 2022 FCF forecast.
For example, even if the company makes $5 billion in FCF this year, that will amount to about 6.5% of analysts’ projections of $77 billion in revenue for 2021. So let’s assume that by next year, that FCF margin could rise to 7.5%, up from 6.5%. Since analysts are projecting $81.9 billion in sales, 7.5% of that implies FCF of $6.14 billion. That is 23% more than the highest projection for FCF in 2021.
What GE Stock Is Worth
One easy way to value a stock is to use an FCF yield metric, which is the same as dividing its FCF by the market value of the stock. So, for example, assuming that next year the stock has a 3.5% FCF yield, we can use our FCF estimate for 2022 to derive its forecast market capitalization.
This is done by dividing our $6.14 billion forecast by 3.5%. That works out to a target market capitalization of $175.43 billion. Given that General Electric now has a market value of $109.55 billion, this implies a potential gain of 60% over yesterday’s price. That means the stock could rise to $157.66 per share.
By the way, this is a slight upgrade from my July forecast of $19.54. Since then, on Aug. 2, GE implemented a 1 for 8 reverse stock split. That had the effect of lowering the number of shares outstanding by 8 times and conversely raising the stock price by 8 times. So my prior target price of $19.54 is is the equivalent of $156.32 today. This is slightly lower than today’s $157.66 price target for GE stock.
What Analysts Say About General Electric
Keep in mind that I am assuming General Electric will fulfill its own projections and begin producing large amounts of free cash flow. For example, in the last quarter, it made just $400 million in FCF. But GE felt confident enough to raise its full-year projections. That implies both Q3 and Q4 will show significant free cash flow.
Analysts tend to believe the company. For example, the average price target of 19 analysts surveyed by Seeking Alpha is $113.88 per share, or 15.56% over its Sept. 22 price of $98.43.
Moreover, TipRanks indicates 13 analysts have written on GE stock in the last three months. Their average price target is $118.89, or about 20% over today’s price.
These 12-month price targets are not inconsistent with my own price target. For example, let’s say it takes two years for GE stock to rise to $157.66. That implies a compound annual growth rate of 26.58%. Therefore, in 12 months, my price target works out to $124.73 per share the first year, then 26.58% higher in the next year to $157.66. That is not too far above the analysts’ projections.
What to Do With GE Stock
Right now the company pays a small dividend of just 32 cents per share, giving it a tiny 0.32% dividend yield at today’s price. However, I suspect that once General Electric starts producing large amounts of FCF, the board will consider increasing the dividend.
That will act as a huge catalyst for GE stock. So, you can see that FCF is very important in determining the dividend and hence the upward trajectory of the stock.
As a result, I suspect many value investors will want to begin taking a toe hold stake in GE stock. It looks like a good value here, with a very high potential return on investment of at least 27% annually for the next two years.
On the date of publication, Mark R. Hake did not hold a position in any security mentioned in the article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.